COVID-19 has already had a monumental impact on the economy, businesses and the everyday lives of people around the world. Operation of some businesses have been put on hold, business arrangements have been affected and there is a real ambiguity in the community about how we recover and respond to these unprecedented events.
In such uncertain times, people are unsure how to navigate existing business contracts so we all stay afloat during challenging times. Many will try to exercise certain contractual rights and we explain some of those below.
Force majeure clauses and COVID-19
A force majeure clause is a clause that must be expressly stated in a contract and it relieves a party from performing its obligations under the contract in circumstances such as natural disasters.
The effect of this clause essentially allows a non-performing party to avoid liability for not performing their obligations under the contract as a result of an event out of their control.
There are three essential elements to satisfy a force majeure clause:
- it occurred by forces either natural or human
- it cannot have been foreseeable by the parties to the contract
- the event was beyond the control of the parties to the contract and the consequences could not have been prevented.
The key question in our situation is, would COVID-19 fall within our classification of a force majeure event? The answer depends on the how the clause has been drafted in your specific contract.
You should always define what is meant by a force majeure event in your contract as imprecise wording only generates ambiguity and dispute. Specific events should be listed and clearly defined. Instead of simply stating “natural disaster” it should say “natural disaster such as bushfires, floods and earthquakes”.
It is important not to make any expectations about whether a force majeure clause is effective simply because COVID-19 is upon us.
Frustration of Contracts
If a party freely and voluntarily enters into a contract, that party is obliged to perform all of its agreed duties under the contract. This is often called ‘absolute liability’ or “strict liability”. A breach of contract will require the offending party to compensate the other party for their losses.
It appears somewhat harsh for absolute liability to be enforced where a breach is beyond a party’s control. Therefore, courts have implemented “frustration of contracts” to mitigate this hardship. This allows for an automatic discharge of the contract where performance is simply impossible. There are two circumstances which must be met for an automatic discharge to apply:
1) neither party is at fault, and
2) performing the obligations under the contract becomes ‘radically different’ from those originally set out in the contract.
If both elements are established, the contract is then immediately terminated from the time that both elements occur, or “the point of frustration”. It is important to note that this does not mean that your contract is completely void from the outset. Obligations are only discharged from the point of frustration.
However, a contract will not always be frustrated in circumstances such as shortages of supplies, construction delays, self-induced frustration or inconvenience.
Again, each situation needs to be examined on the facts and contract in order to determine how COVID-19 disrupts the business activity.
It is important to be fully aware of your obligations and options in your contractual arrangement during difficult times such as COVID-19. If you would like further information regarding the impact on your business or simply corporate and contract law advice, please do not hesitate to contact one of our experienced solicitors on 9963 9800 or via email at [email protected].